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Small Business Management Entrepreneurship and Beyond FIFTH EDITION
TIMOTHY S. HATTEN Mesa State College
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To: Jill, Paige, Brittany, and Taylor
Brief Contents Preface
xvii
P A R T 1: The Challenge
1
Chapter 1: Small Business: An Overview 2 Chapter 2: Small Business Management, Entrepreneurship, and Ownership 23 P A R T 2: Planning in Small Business
51
Chapter 3: Social Responsibility, Ethics, and Strategic Planning 52 Chapter 4: The Business Plan 80 P A R T 3: Early Decisions
107
Chapter 5: Franchising 108 Chapter 6: Taking Over an Existing Business 131 Chapter 7: Starting a New Business 156 P A R T 4: Financial and Legal Management
179
Chapter 8: Accounting Records and Financial Statements 180 Chapter 9: Small Business Finance 213 Chapter 10: The Legal Environment 239 P A R T 5: Marketing the Product or Service 263
11: 12: 13: 14:
Small Small Small Small
Business Business Business Business
Marketing: Marketing: Marketing: Marketing:
P A R T 6: Managing Small Business
Chapter Chapter Chapter Chapter
15: 16: 17: 18:
Notes 480 Index 491 iv
Strategy and Research 264 Product 284 Place 308 Price and Promotion 337
369
International Small Business 370 Professional Small Business Management 399 Human Resource Management 426 Operations Management 459
© Carlos Hernandez/STOCK4B, Getty Images
Chapter Chapter Chapter Chapter
Contents Preface xvii PA RT 1
The Challenge 1
CHAPTER 1
Small Business: An Overview . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2 What Is Small Business? 3 Size Definitions 4 Types of Industries 6 Small Businesses in the U.S. Economy 7 Workforce Diversity and Small Business Ownership 9 The Value of Diversity to Business 11 Secrets of Small Business Success 11 Competitive Advantage 11 Getting Started on the Right Foot 13 Understanding the Risks of Small Business Ownership 14 What Is Business Failure? 14 Causes of Business Failure 16 Business Termination versus Failure 17 Mistakes Leading to Business Failure 17 Failure Rate Controversy 18 Is Government Intervention the Answer? 19 E NTREPRENEURIAL S NAPSHOT : Beer Entrepreneur 15 MANAGER ’S NOTES : Straight from the Source 12 Summary 20 Questions for Review and Discussion 20 Questions for Critical Thinking 21 What Would You Do? 21 Chapter Closing Case 21 CHAPTER 2
© Carlos Hernandez/STOCK4B, Getty Images
Small Business Management, Entrepreneurship, and Ownership . . . . . . . . . . . . . . . . 23 The Entrepreneur-Manager Relationship 24 What Is an Entrepreneur? 24 Entrepreneurship and the Small Business Manager 25 A Model of the Start-Up Process 26 Your Decision for Self-Employment 30 Pros and Cons of Self-Employment 30 Traits of Successful Entrepreneurs 32 Preparing Yourself for Business Ownership 34 Forms of Business Organization 35 Sole Proprietorship 37 Partnership 38 v
vi
Contents
Corporation 42 Specialized Forms of Corporations 45 MANAGER ’ S NOTES: Are You Ready? 25 REALITY C HECK : Small Biz on Campus 32 Summary 46 Questions for Review and Discussion 47 Questions for Critical Thinking 47 What Would You Do? 47 Chapter Closing Case 48
PA RT 2
Planning in Small Business 51
CHAPTER 3
Social Responsibility, Ethics, and Strategic Planning . . . . . . . . . . . . . . . . . . . . . . . . . . 52 Relationship between Social Responsibility, Ethics, and Strategic Planning 53 Social Responsibilities of Small Business 53 Economic Responsibility 54 Legal Obligations 55 Ethical Responsibility 56 Philanthropic Goodwill 57 Ethics and Business Strategy 58 Codes of Ethics 58 Ethics under Pressure 60 Strategic Planning 62 Mission Statement 63 Environmental Analysis 64 Competitive Analysis 66 Strategic Alternatives 73 Goal Setting and Strategies 73 Control Systems 75 Strategic Planning in Action 76 MANAGER ’ S NOTES: Playing Hardball 73 C OMPETITIVE A DVANTAGE: Competitive Intelligence 60 REALITY C HECK : Green Can Be Gold 62 Summary 77 Questions for Review and Discussion 77 Questions for Critical Thinking 78 What Would You Do? 78 Chapter Closing Case 78 CHAPTER 4
The Business Plan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 80 Every Business Needs a Plan 81 The Purpose 81 The Practice: Guidelines for Writing a Business Plan 82 Business Plan Contents 86 Cover Page 86 Table of Contents 86 Executive Summary 86 Company Information 87 Environmental and Industry Analysis 87
Contents
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Products or Services 89 Marketing Research and Evaluation 89 Manufacturing and Operations Plan 91 Management Team 92 Timeline 93 Critical Risks and Assumptions 93 Benefits to the Community 93 Exit Strategy 94 Financial Plan 94 Appendix 99 Review Process 99 Business Plan Mistakes 99 MANAGER ’S NOTES : Good, Bad, and Ugly Business Plans 83 MANAGER ’S NOTES : How Does Your Plan Rate? 101 C OMPETITIVE A DVANTAGE: Bring It On 94 REALITY C HECK : Feasible, Viable, Good Idea? 98 Summary 103 Questions for Review and Discussion 103 Questions for Critical Thinking 103 What Would You Do? 103 Chapter Closing Case 104
PA RT 3
Early Decisions 107
CHAPTER 5
Franchising . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 108 About Franchising 109 Background 109 Franchising Today 110 Franchising Systems 110 Product-Distribution Franchising 111 Business-Format Franchising 111 Why Open a Franchise? 111 Advantages to Franchisee 112 Disadvantages to Franchisee 113 Advantages to Franchisor 115 Disadvantages to Franchisor 116 Selecting a Franchise 117 Evaluate Your Needs 117 Do Your Research 117 Analyze the Market 121 Disclosure Statements 121 The Franchise Agreement 124 Get Professional Advice 126 International Franchising 126 MANAGER ’S NOTES : Just the Facts … 110 C OMPETITIVE A DVANTAGE: Franchise—Failed! 125 REALITY C HECK : Go to the Source 120 Summary 127 Questions for Review and Discussion 128 Questions for Critical Thinking 128
viii
Contents
What Would You Do? 128 Chapter Closing Case 129 CHAPTER 6
Taking Over an Existing Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 131 Business-Buyout Alternative 132 Advantages of Buying a Business 133 Disadvantages of Buying a Business 134 How Do You Find a Business for Sale? 135 What Do You Look for in a Business? 136 Due Diligence 137 General Considerations 138 Why Is the Business Being Sold? 138 Financial Condition 139 What Are You Buying? 141 Tangible Assets 141 Intangible Assets 143 Personnel 144 The Seller’s Personal Plans 144 How Much Should You Pay? 145 What Are the Tangible Assets Worth? 146 What Are the Intangible Assets Worth? 146 Buying the Business 148 Terms of Sale 148 Closing the Deal 148 Taking Over a Family Business 149 What Is Different about Family Businesses? 150 Complex Interrelationships 150 Planning Succession 150 General Family Business Policies 151 E NTREPRENEURIAL SNAPSHOT : Their Family Business Tree Is a Sequoia 149 MANAGER ’ S NOTES: Show and Don’t Tell 140 MANAGER ’ S NOTES: What’s It Really Worth? 143 C OMPETITIVE A DVANTAGE: In the Box—Negotiating Strategies 133 Summary 152 Questions for Review and Discussion 153 Questions for Critical Thinking 153 What Would You Do? 153 Chapter Closing Case 154 CHAPTER 7
Starting a New Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 156 About Start-ups 157 Advantages of Starting from Scratch 158 Disadvantages of Starting from Scratch 158 Types of New Businesses 158 E-Businesses 159 Home-Based Businesses 160 Starting a Business on the Side 161 Fast-Growth Start-ups 162
Contents
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Evaluating Potential Start-ups 162 Business Ideas 162 Where Business Ideas Come From 166 Getting Started 168 What Do You Do First? 168 Importance of Planning to a Start-up 169 How Will You Compete? 171 Customer Service 173 Licenses, Permits, and Regulations 173 Taxes 173 E NTREPRENEURIAL S NAPSHOT : Über Inventor—Old School 172 C OMPETITIVE A DVANTAGE: Creative Release 168 REALITY C HECK : Quotable Quotes 164 REALITY C HECK : Urban Survival Shoes 169 Summary 174 Questions for Review and Discussion 175 Questions for Critical Thinking 175 What Would You Do? 175 Chapter Closing Case 176
PA RT 4
Financial and Legal Management 179
CHAPTER 8
Accounting Records and Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 180 Small Business Accounting 182 How Important Are Financial Records? 183 Accurate Information for Management 183 Banking and Tax Requirements 184 Small Business Accounting Basics 184 Double- and Single-Entry Systems 184 Accounting Equations 187 Cash and Accrual Methods of Accounting 188 What Accounting Records Do You Need? 188 Using Financial Statements to Run Your Small Business 193 Analyzing Financial Statements 193 Ratio Analysis 194 Using Financial Ratios 194 Liquidity Ratios 196 Activity Ratios 196 Leverage Ratios 198 Profitability Ratios 199 Managing Cash Flow 201 Cash Flow Defined 201 Cash Flow Fundamentals 201 Cash Flow Management Tools 203 Strategies for Cash Flow Management 205 MANAGER ’S NOTES : Ask … 184 MANAGER ’S NOTES : Small Business Dashboard 185 C OMPETITIVE A DVANTAGE: Open-Book Management 203 REALITY C HECK : Do You Have a Business or a Hobby? 194 Summary 208 Questions for Review and Discussion 209
x
Contents
Questions for Critical Thinking 209 What Would You Do? 209 Chapter Closing Case 211 CHAPTER 9
Small Business Finance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 213 Small Business Finance 214 Initial Capital Requirements 215 Defining Required Assets 215 The Five “Cs” of Credit 216 Additional Considerations 219 Basic Financial Vocabulary 219 Forms of Capital: Debt and Equity 219 Other Loan Terminology 223 How Can You Find Capital? 223 Loan Application Process 223 Sources of Debt Financing 223 What if a Lender Says “No”? 229 Sources of Equity Financing 229 Choosing a Lender or Investor 234 E NTREPRENEURIAL SNAPSHOT : Brodsky Says … 234 MANAGER ’ S NOTES: Banker Talk 225 REALITY C HECK : Recession Proof Your Small Business 218 REALITY C HECK : Credit Card Start-up Funding—Really?? 230 Summary 236 Questions for Review and Discussion 236 Questions for Critical Thinking 236 What Would You Do? 236 Chapter Closing Case 237 CHAPTER 10
The Legal Environment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 239 Small Business and the Law 240 Laws to Promote Fair Business Competition 241 Laws to Protect Consumers 241 Laws to Protect People in the Workplace 241 Licenses, Restrictions, and Permits 248 Bankruptcy Laws 249 Chapter 7 Bankruptcy 249 Chapter 11 Bankruptcy 250 Chapter 13 Bankruptcy 250 Contract Law for Small Businesses 251 Elements of a Contract 251 Contractual Obligations 251 Laws to Protect Intellectual Property 253 Patents 253 Copyrights 256 Trademarks 257 Global Protection of Intellectual Property 258 MANAGER ’ S NOTES: Legal Answers 252 MANAGER ’ S NOTES: Keeping Your Trademark in Shape 257
Contents
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REALITY C HECK : Who Can You Trust? 243 REALITY C HECK : Protect Your App? 254 Summary 258 Questions for Review and Discussion 259 Questions for Critical Thinking 259 What Would You Do? 259 Chapter Closing Case 260
PA RT 5
Marketing the Product or Service 263
CHAPTER 11
Small Business Marketing: Strategy and Research . . . . . . . . . . . . . . . . . . . . . . . . . . . 264 Small Business Marketing 265 Marketing Concept 266 Of Purple Cows 266 Marketing Strategies for Small Businesses 267 Setting Marketing Objectives 267 Developing a Sales Forecast 267 Identifying Target Markets 269 Understanding Consumer Behavior 272 Market Research 275 Market Research Process 276 Limitations of Market Research 280 E NTREPRENEURIAL S NAPSHOT : It Tastes Like What?! 268 C OMPETITIVE A DVANTAGE: Sometimes the Best Marketing Strategy Is a Good Defense 270 REALITY C HECK : SEO—Search Engine Optimization 273 Summary 281 Questions for Review and Discussion 281 Questions for Critical Thinking 282 What Would You Do? 282 Chapter Closing Case 282 CHAPTER 12
Small Business Marketing: Product . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 284 Using Your Marketing Mix 285 Product: The Heart of the Marketing Mix 285 Developing New Products 286 Inventor’s Paradox 289 Importance of Product Competitive Advantage 291 Packaging 292 Purchasing for Small Business 292 Purchasing Guidelines 292 Purchasing Basics 293 Selecting Suppliers 294 Make-or-Buy Decision 294 Investigating Potential Suppliers 294 Managing Inventory 295 How Much Inventory Do You Need? 295 Costs of Carrying Inventory 298
xii
Contents
Controlling Inventory 299 Reorder Point and Quantity 299 Visual Control 300 Economic Order Quantity 300 ABC Classification 301 Electronic Data Interchange 302 Just-in-Time 303 Materials Requirements Planning 304 E NTREPRENEURIAL SNAPSHOT : Marketing Kings of Furniture 288 REALITY C HECK : The Fairness of Slotting Fees 290 REALITY C HECK : Money on the Shelf 298 Summary 304 Questions for Review and Discussion 305 Questions for Critical Thinking 305 What Would You Do? 306 Chapter Closing Case 306 CHAPTER 13
Small Business Marketing: Place . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 308 Small Business Distribution 309 Location for the Long Run 311 State Selection 314 City Selection 316 Site Selection 318 Site Questions 318 Traffic Flow 320 Going Global 320 Location Types 321 Central Business Districts 321 Shopping Centers 322 Stand-Alone Locations 323 Service Locations 323 Incubators 323 Layout and Design 324 Legal Requirements 325 Retail Layouts 325 Service Layouts 326 Manufacturing Layouts 327 Home Office 329 Advantages 329 Disadvantages 330 Lease, Buy, or Build? 330 Leasing 330 Purchasing 332 Building 332 E NTREPRENEURIAL SNAPSHOT : Buck Stops in Idaho 312 MANAGER ’ S NOTES: GIS—Improving Decision Making 319 REALITY C HECK : Incubation Innovation 324 REALITY C HECK : Is It Time to Move? 333 Summary 333 Questions for Review and Discussion 334
Contents
xiii
Questions for Critical Thinking 335 What Would You Do? 335 Chapter Closing Case 336 CHAPTER 14
Small Business Marketing: Price and Promotion . . . . . . . . . . . . . . . . . . . . . . . . . . . . 337 The Economics of Pricing 338 Competition 339 Demand 341 Costs 343 Breakeven Analysis 343 Pricing-Setting Techniques 346 Customer-Oriented Pricing Strategies 348 Internal-Oriented Pricing Strategies 349 Creativity in Pricing 351 Credit Policies 351 Extending Credit to Your Customers 353 Collecting Overdue Accounts 354 Promotion 355 Advertising 356 Personal Selling 361 Public Relations 362 Sales Promotions 363 Promotional Mix 364 MANAGER ’S NOTES : Customers—Your Key to Sales 350 C OMPETITIVE A DVANTAGE: Guppy in a Shark Tank: Small Business, Big Trade Shows 357 REALITY C HECK : Even in a Recession, Don’t Give Away the Farm 342 REALITY C HECK : What Price Is Too Low … or Too High? 347 Summary 364 Questions for Review and Discussion 365 Questions for Critical Thinking 365 What Would You Do? 365 Chapter Closing Case 366
PA RT 6
Managing Small Business 369
CHAPTER 15
International Small Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 370 Preparing to Go International 371 Growth of Small Business 372 International Business Plan 372 Take the Global Test 373 Establishing Business in Another Country 374 Exporting 375 Importing 375 International Licensing 375 International Joint Ventures and Strategic Alliances 375 Direct Investment 377 Exporting 379 Indirect Exporting 379
xiv
Contents
Direct Exporting 382 Identifying Potential Export Markets 382 Importing 385 Financial Mechanisms for Going International 385 International Finance 386 Managing International Accounts 386 Countertrade and Barter 387 Information Assistance 388 The International Challenge 388 Understanding Other Cultures 388 International Trading Regions 392 ISO 9000 395 ENTREPRENEURIAL SNAPSHOT : Tony and Maureen Wheeler 378 MANAGER ’ S NOTES: Always a Handshake and a Smile, Right? 392 C OMPETITIVE A DVANTAGE: Outsourcing—Key Factors for Success 376 REALITY C HECK : China—Here We Come … or Not 380 Summary 395 Questions for Review and Discussion 396 Questions for Critical Thinking 396 What Would You Do? 397 Chapter Closing Case 397 CHAPTER 16
Professional Small Business Management . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 399 Managing Small Business 400 Four Functions of Management 401 What Managers Do 401 Small Business Growth 403 Your Growing Firm 404 Transition to Professional Management 406 The Next Step: An Exit Strategy 406 Leadership in Action 409 Leadership Attributes 410 Negotiation 413 Delegation 414 Motivating Employees 414 Can You Motivate without Using Money? 417 Employee Theft 419 Special Management Concerns: Time and Stress Management 419 Time Management 419 Stress Management 421 MANAGER ’ S NOTES: Help Me, Help Me, Help Me 402 MANAGER ’ S NOTES: Entrepreneurial Evolution 412 C OMPETITIVE A DVANTAGE: More Hours in Your Day 420 REALITY C HECK : Leadership Tips 411 REALITY C HECK : Motivate More with Less 418 Summary 423 Questions for Review and Discussion 423 Questions for Critical Thinking 424 What Would You Do? 424 Chapter Closing Case 424
Contents
xv
CHAPTER 17
Human Resource Management . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 426 Hiring the Right Employees 427 Job Analysis 428 Job Description 429 Job Specifications 430 Employee Recruitment 430 Advertising for Employees 430 Employment Agencies 430 Internet Job Sites 431 Executive Recruiters (Headhunters) 432 Employee Referrals 432 Relatives and Friends 432 Other Sources 433 Selecting Employees 434 Application Forms and Résumés 434 Interviewing 434 Testing 437 Temporary Employees and Professional Employer Organizations (PEOs) 439 Placing and Training Employees 440 Employee Training and Development 441 Ways to Train 441 Compensating Employees 443 Determining Wage Rates 443 Incentive-Pay Programs 444 Benefits 446 When Problems Arise: Employee Discipline and Termination 450 Disciplinary Measures 450 Dismissing Employees 453 E NTREPRENEURIAL S NAPSHOT : Cooking up a Cause 445 MANAGER ’S NOTES : Finding the Right One 428 MANAGER ’S NOTES : Don’t Even Ask! 435 MANAGER ’S NOTES : Sixty-Second Guide to Hiring the Right Employee 442 C OMPETITIVE A DVANTAGE: Perks That Small Businesses Can Afford 450 REALITY C HECK : Working with Gen Yers 432 REALITY C HECK : We Need to Talk … 454 Summary 455 Questions for Review and Discussion 456 Questions for Critical Thinking 456 What Would You Do? 457 Chapter Closing Case 457 CHAPTER 18
Operations Management . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 459 Elements of an Operating System 461 Inputs 461 Transformation Processes 461 Outputs 461 Control Systems 462 Feedback 463
